Calculating risk factors is key before you invest
QUESTION: The recent events in the financial world have caused me concern. What investments are available whose main aim is to protect my wealth?
ANSWER: Until recently the stock answer to that question would have been cash, but given the number of calls we have had from individuals worried about their bank deposits, even cash doesn’t seem to give people the reassurance they are looking for.
The recent increase in the Financial Services Compensation Scheme (FSCS), that will protect an individual’s bank deposits up to the value of £50,000, has gone some way to reassure investors.
However, there is a growing call from the public for the government to match what many countries have now done, which is to guarantee 100% of deposits, irrespective of their value or who they are held with.
If and when that occurs, I believe investor confidence will slowly start to return, but as you highlight, the current situation makes many individuals nervous and in addition left in a quandary as to what they should do.
The main issue facing investors at the minute is that despite cash offering the ultimate safe haven, inflation as it continues to increase erodes that growth and for many is actually reducing the real value of their savings.
If, after tax, the return an individual is receiving is only two percent behind inflation, then the value of those investments will fall to around 90% in real terms after only five years. If the individual is holding that cash to generate an income, then the problem becomes a bigger issue.
Other secure investments are things like National Savings, which are ultimately backed by the government.
There is a whole array of products available under the National Savings banner, which allows individuals to tie their monies up for varying terms and have the returns either fixed, variable or linked in some way to the rate of inflation.
In addition, some of these offerings add tax efficient wrappers depending on your age or tax status. Over and above cash, a number of banks and financial institutions are offering either capital protected or guaranteed products.
Many of these arrangements will offer a return based on linking your investment to an index such as the FTSE.
In broad terms, if over a set period the index rises, then your return will be paid out accordingly. If it fails to perform as expected, then your capital is normally returned without any growth.
The main risk to these types of products is the firm is effectively guaranteeing your funds should the index you have chosen fail to perform.
It is vital therefore that you or your adviser carries out on your behalf, adequate due diligence on both the firm you place your funds with, and the firm that is effectively writing the guarantee.
There are a number of options open to you that aim to offer both security of your capital, whilst at the same time aiming to provide a level of growth which will at the very least keep pace with inflation.
Such investments will never offer outstanding returns, but in today’s climate I see more people who are interested in how they protect their wealth rather than those who are looking to make an investment that will provide double digit returns.
No matter what type of individual you are, the main principles of investing apply. You need to agree a level of risk that is acceptable, identify the primary reason for making an investmen and, finally, ensure that the companies you place the investment with are financial strong.
Raymond Mulligan is managing director of Johnston Campbell, a company of independent financial advisers regulated by the Financial Services Authority. For further information, please contact firstname.lastname@example.org or (028) 9022-1010